On the morning of 2/6, shares of Nvidia (NVDA) were down nearly 3% in the pre-market session. It wasn't clear what was driving the stock down at first (the futures seemed okay), but later in the day, it became apparent that it was a research note from Pacific Crest, alleging that the next generation Google (GOOG) Nexus 7 tablet will feature a Qualcomm (QCOM) chip rather than a next generation Nvidia one.
The report went on to say that this would lead the firm to cut "Tegra" estimates on Nvidia's mobile chip sales for CY2013 from $750M to $525M. On the bright side, the firm revised its estimates for Nvidia's "Quadro" line of professional graphics cards to be up 8% Y/Y, rather than its previous forecast of 3%.
Mobile Is The Growth Story
While Nvidia's core competency (and profit engine) is high performance graphics cards, the big growth story -- and the one that the Street is particularly interested in -- is the company's mobile system-on-chip strategy with "Tegra." While the company seems to be priced to reflect this (P/E of 15), on an ex-cash basis (P/E of ~7), it seems to reflect the broad pessimism surrounding Nvidia's core business in addition to the company's growth story.
There's no denying it: Nvidia's stock is very driven by the Street's assessment of its mobile strategy, and right now, as almost every other "growth" name pegs 52-week highs, sentiment is terrible. With Qualcomm garnering the love of the press, and as the company continues to execute extremely well, it's no wonder that right now, Nvidia is in the penalty box, despite its own strong financial performance over the last 12 months.
While Nvidia has a commanding position in both workstation graphics and PC gaming graphics, and has a very nice, high growth niche with its "Tesla" business, investors need to understand that "Tegra" is what moves the stock.
Is The Rumor True?
Is the rumor true? Well, just a few weeks ago, the rumors said that Nvidia's Tegra 4 would be powering the next generation Nexus 7, in addition to the next generation Nexus phone. Today, Qualcomm now has all of the design wins, and Nvidia's left out in the cold. What should investors believe?
I wouldn't immediately dismiss the rumor. Qualcomm has a very strong product offering with its current Snapdragon S4 Pro line of chips, and a move to that chip in a next generation tablet would represent a real upgrade over the aging Tegra 3 (released in 2011). Pacific Crest also pointed out that the major reason for the move was that Google wanted to source both the modem and the apps processor from the same vendor to keep things simpler and cheaper.
While "Tegra 4" and its accompanying 4G "i500" baseband would offer equivalent functionality, it is not clear whether Nvidia would have these chips ready for high volume shipment by the Nexus 7 launch. It's also not clear whether Qualcomm was simply in a position to offer Google a better deal on the chips. Tegra 4 is purported to be small, but given Qualcomm's reluctance to reveal much about its chips, it could also be quite thrifty on the die-size (and thus cost) metric.
As of now, especially given that Pacific Crest would significantly damage its credibility by making unsubstantiated claims, I believe this rumor, and I would not be surprised to see Nvidia lose this round of Nexus 7 to Qualcomm.
Is There Hope?
Sentiment on Nvidia stock is bad, and this news won't help. Expect to see a continued orderly march out of the exits leading into next week's earnings report. Is there hope?
If Nvidia reports a solid Q4 and manages to guide for a strong Q1 (and maybe even give a strong full year guide), then shares could see a renewed source of optimism. Further, Mobile World Congress 2013 is right after the earnings report, so if Nvidia does well, momentum will likely continue into the conference. Should some really nice wins be announced there, or should this rumor be proven false, then there could be additional upside.
But if things don't go well, then shares of Nvidia are set to continue to be range bound in the $11-$12 band. I wouldn't expect a disastrous gap down below the $11 mark since, quite frankly, shares are cheap given the cash on the balance sheet and the profitability of the business as a whole. Additionally, Nvidia may even talk up "Grey," its integrated baseband + Tegra 4 part at MWC, which could help to renew optimism for 2014. However, given the bullishness of the overall market, a range bound stock isn't exactly the most enticing investment.
What To Do?
Nvidia is a long-term contrarian, deep-value play for me, and I think in 2014, it will take share from Qualcomm with its integrated Tegra 4 + LTE baseband. I further believe that as the HPC market continues to grow, the "Tesla" HPC cards will continue to be a very high margin source of growing profitability. PC gaming is also growing, and Nvidia is very well-positioned to take advantage of that. Finally, while I don't have much hope for Windows RT, I do think that Android tablets and convertibles will continue to be a secular growth market in which Nvidia participates. The dream of cheap, ubiquitous computing will be realized with these cheap, low-power SoCs, and Nvidia will be a major player.
That being said, if you don't really buy the story, or want "quicker" money, then Nvidia is not the best bet right now. It has a lot to prove to the Street right now, so you're better off just buying Qualcomm, ARM Holdings (ARMH), or another one of the more well-liked semiconductors in this market if you aren't ready to sit on a 1-year-plus bet.
I like Nvidia. I continue to hold Nvidia as one of my largest positions, but in the near term, it is likely to be pretty dead money barring a blowout earnings report and strong guide. With the negativity around the mere thought of losing the Nexus 7 spot, things aren't going to get any better on the sentiment side. On the plus side, if you're willing to wait, then I think 2014 could be a blowout year for the company. But you've got time.